Poor jobs read casts further doubt on tapering

If the market needed a further reason to sell USDs and bid up US treasuries and equities, then the weak US payrolls have given confirmation to a 2014 tapering exercise.

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anonymous

2013-10-23T04:19:46+0100

There are a few proud investment houses still calling for a December taper, however consensus is now solidly in the March or April (‘tapril’) camp.

The trend in job creation is worrying, with the September print (148,000) some 16.4% below the year’s average, while the average over the past six months fell to 156,000 from 204,000 set in June. As expected, the participation rate did not budge from the three decade low and again helped the unemployment rate ease to 7.2%.

The crazy thing is the unemployment rate is now only twenty basis points from the ‘threshold’ by which the Fed would look to taper; clearly the market is looking more closely at the trend in payrolls than the low quality fall in the unemployment rate. It’s worth pointing out that the market is now pricing in 37 basis points of hikes from the Fed by June 2015, and this is down from 91 basis points on September 5. With core PCE at 1.2% and bond yields (on the ten-year at 2.51%), does the Fed even need forward guidance?

What’s quite clear though is with the Fed in the markets until March, equity markets trending nicely, volatility in the equity market and currency markets at the lowest levels in some time, traders are reacting to what works best in this environment – the carry trade. FX traders are happy to sit back and get paid to be in positions, with they get the added benefit of capital appreciation as the EUR, GBP, AUD, NZD, SEK, CAD continue to perform rather nicely against the USD and JPY. Of course this is helped by US bond yields (on the ten-year treasury) falling to 2.51% and at the lowest levels since July. It’s interesting to see the USD index fall apart and the technicals just don’t bode well. I’ve been looking at the USD from a contrarian standpoint (everyone is negative), but waiting for price to confirm a reversal; clearly that hasn’t materialised.

It’s worth highlighting that it isn’t just stimulus that is exciting global markets, although it is the key driver for sure. Earnings are actually providing some real support. With nearly 30% of S&P companies having reported, 74% have beaten on the EPS line and 54% on the top line. However, drilling down we are seeing signs of sales growth in the cyclical-exposed sectors of the market, with the energy sector seeing aggregate sales growth of 10.4%, materials 7.3% and industrials 1.3%. This quarter it’s not just about financials.

This is a market which for so long has seen P/E expansion (i.e. the consensus P/E has gone from 13x 2014 earnings to 16x this year), however consensus earnings per share have actually fallen slightly from January. The question traders are now asking is whether we have hit an inflection point and could price actually be followed by earnings (and sales) growth?

Asian markets have generally rallied, although the upside seems limited and looks quite lethargic. China is outperforming, while Japan and the ASX 200 are up 0.2%. Emerging markets are naturally loving the potential for the Fed to continuing buying $85 billion a month for an extended period.

Aside from the US payrolls, traders both in the equity and currency markets have been reacting to the Australian Q3 CPI print. The trend in AUD/USD has generally been one-way of late and today’s Q3 CPI print has provided further support, which on ‘core’ basis (+2.3% year-on-year) was twenty basis points above the market’s consensus. The AUD rallied across the G10 spectrum, however stoped four pips shy of breaking the 200-day moving average (0.9749) against the greenback. The pair has spent 137 days below this longer-term average, and a break above here could bring out further upside.

Traders have been asking at what level the RBA could look to cut rates to bring down the ‘Aussie’, however I really can’t see them looking to cut until the pair breaks parity. If you look at the AUD on a trade-weighted basis, it has only just retraced 38.2% of the year’s high to low. Given AUD/USD has retraced 50% of the losses, you can see just how much of an influence USD weakness has had this year.

AUD/JPY continues to work well as well, and while the market is only pricing in seven basis points of hikes over the next twelve months, I feel the currency’s strength is the number one thing that will keep the markets from really pricing in a full cut anytime soon.

European markets should open on a relatively flat note, with Asian markets not providing a renewed platform for index appreciation on the open. On the docket we have BoE minutes, the Canadian central bank meeting and European consumer confidence. Traders will also be keen to watch the press conference from the ECB on the perimeters around its future bank assessments as part of the impending single supervisory role.

There are a whole host of companies reporting, however from a macro perceptive Caterpillar is the one to watch. There are few companies that can have an impact on global markets and even currencies (think AUD, NZD or CAD), with its views on China and emerging markets always interesting to hear. The technicals are looking quite compelling right now, breaking through both longer- and medium-term downtrends, and it seems expectations are actually quite low on this name, so there are upside risks here.

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